Do you know the main differences between FSAs and HSAs? What about use-it-or-lose it provisions? Grace periods? If any of this doesn’t sound familiar, you’re not alone.
With the continuous growth of high-deductible insurance plans, flexible spending accounts (FSAs), and health savings accounts (HSAs), careful planning is more important than ever. A miscalculation can be costly, either through the “use-or-lose” provisions of an FSA or in buying power lost to taxes by not stashing enough in a tax-exempt account.
In a 2017 Financial Wellness Survey from PwC, more than half (53%) of American workers report being stressed over finances. But FSAs and HSAs shouldn’t be stressors; they can be useful. Here’s what you need to know about each of the plans and how to maximize the benefits.
Flexible Spending Account (FSA)
Also known as a flexible spending arrangement, an FSA can come in several different package types. The more common FSA is the medical expense account, an employer-sponsored program that allows workers to set aside earnings for qualified medical expenses. On the other hand, a dependent care FSA allows workers to set money aside for programs such as daycare. In some instances, this type of account can also be used to pay for dependent care of elderly adults that live with you.
In both cases, the money is tax-exempt. The account starts at zero each year, where the employee saves a set amount of money per month directly from their paycheck into the FSA account. At the end of the year, the employer can keep any amount left unspent. This is the “use-it-or-lose-it” provision. However, the government allows employers to offer a 2 ½ month “grace period” in which employees can use up money left over at the end of the previous year, or the employer can roll over a maximum of $500 into the next year. Different plans offer different options, so be sure to research your employer’s policies as early as you can. Asking about rollovers on Dec. 29 is typically a poor strategy.
For 2017, workers can set aside up to $2,600 for a health care FSA and up to $5,000 per family for a dependent care FSA.
Health Savings Account (HSA)
Think of an HSA like an Individual Retirement Account (IRA) for health costs. Workers with high-deductible health plans — defined by the IRS as at least $1,300 for individuals or $2,600 per family — can set aside, tax-exempt, up to $3,400 in 2017 (plus a $1,000 annual “catch-up” for those 55 and up). That money grows tax-exempt and can be spent on medical expenses. After age 65, money can still be spent tax-free on health expenses or withdrawn for any use with taxes assessed based on income, like an IRA.
If your employer doesn’t offer an HSA plan, you can set up your own at a bank or credit union. But only with an HSA through work can you avoid Social Security tax on that income, an added bonus. Like an IRA, money in an HSA remains with the employee forever and grows tax-free. For serious savers who max out contributions to their 401(k) and IRA accounts, the HSA can stash another $3,400 a year tax-free.
Benefits of Both
Savers who understand the options can reap benefits from both FSAs and HSAs. By maximizing HSA contributions, earners build a health care next egg with no spending time limit. And they can maximize tax efficiencies by going beyond a HSA and putting aside extra tax-free money for additional medical needs such as dental and vision care.
Things to Consider:
- As health plan deductibles rise, setting aside some money for emergencies isn’t such a bad idea.
- If your employer doesn’t offer a HSA, you can set up your own at a bank or credit union.
- Both FSAs and HSAs require planning, but the tax savings are there for the taking.